UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDING April 30, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _____________ TO ________________. Commission File Number 1-7891 DONALDSON COMPANY, INC. (Exact name of registrant as specified in its charter) Delaware 41-0222640 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 1400 West 94th Street Minneapolis, Minnesota 55431 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (612) 887-3131 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes __X__ No _____ Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common Stock, $5 Par Value -- 25,122,924 shares as of May 30, 1997 PART I. FINANCIAL INFORMATION Item 1. Financial Statements. CONDENSED STATEMENTS OF CONSOLIDATED EARNINGS DONALDSON COMPANY, INC. AND SUBSIDIARIES (Thousands of Dollars Except Per Share Amounts) (Unaudited) <TABLE> <CAPTION> Three Months Ended Nine Months Ended April 30 April 30 --------------------------- --------------------------- 1997 1996 1997 1996 ------------ ------------ ------------ ------------ <S> <C> <C> <C> <C> Net Sales $ 213,876 $ 185,225 $ 597,901 $ 556,257 Cost of Sales 147,672 129,853 417,370 394,547 ------------ ------------ ------------ ------------ Gross Margin 66,204 55,372 180,531 161,710 Operating Expenses 42,557 34,378 119,946 106,623 Other (Income) Expense 877 (251) 1,483 169 Interest Expense 582 819 1,655 2,195 ------------ ------------ ------------ ------------ Earnings Before Income Taxes 22,188 20,426 57,447 52,723 Income Taxes 7,988 7,801 20,681 20,720 ------------ ------------ ------------ ------------ Net Earnings $ 14,200 $ 12,625 $ 36,766 $ 32,003 ============ ============ ============ ============ Average Shares and Equivalents Outstanding During Period 25,461,101 25,941,827 25,505,989 26,060,561 ============ ============ ============ ============ Net Earnings Per Share $ .56 $ .49 $ 1.44 $ 1.23 ============ ============ ============ ============ Dividends Paid Per Share $ .09 $ .08 $ .26 $ .22 ============ ============ ============ ============ </TABLE> See Notes to Condensed Consolidated Financial Statements. CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL POSITION DONALDSON COMPANY, INC. AND SUBSIDIARIES (Thousands of Dollars) (Unaudited) <TABLE> <CAPTION> April 30 July 31 1997 1996 --------- --------- <S> <C> <C> ASSETS CURRENT ASSETS Cash and Cash Equivalents $ 21,902 $ 30,924 Accounts Receivable, Net 147,854 137,145 Inventories Materials 35,463 30,359 Work in Process 11,284 10,184 Finished Products 33,851 31,427 --------- --------- Total Inventories 80,598 71,970 Prepaids and Other Current Assets 9,382 10,712 --------- --------- TOTAL CURRENT ASSETS 259,736 250,751 Property, Plant and Equipment, at Cost 338,031 307,979 Less Accumulated Depreciation 191,890 183,066 --------- --------- Property, Plant and Equipment, Net 146,141 124,913 Other Assets 30,075 27,186 --------- --------- TOTAL ASSETS $ 435,952 $ 402,850 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES Short-Term Debt $ 19,348 $ 8,916 Current Maturities of Long-Term Debt 3,158 4,229 Trade Accounts Payable 63,634 62,020 Accrued Employee Compensation & Related Taxes 25,763 23,524 Other Current Liabilities 46,976 39,889 --------- --------- TOTAL CURRENT LIABILITIES 158,879 138,578 Long-Term Debt 8,526 10,041 Deferred Income Taxes 641 560 Other Long-Term Liabilities 24,389 24,791 SHAREHOLDERS' EQUITY Preferred Stock, $1 par value, 1,000,000 shares authorized, no shares issued -- -- Common Stock, $5 par value, 40,000,000 shares authorized, 27,063,407 issued on April 30, 1997 and July 31, 1996 135,317 135,317 Additional Paid-in Capital 4,429 2,994 Retained Earnings 156,124 128,795 Cumulative Translation Adjustment (2,118) 6,065 Treasury Stock - 1,945,292 and 1,738,793 shares, at cost (47,505) (41,561) Receivable from ESOP (2,730) (2,730) --------- --------- TOTAL SHAREHOLDERS' EQUITY 243,517 228,880 --------- --------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 435,952 $ 402,850 ========= ========= </TABLE> See Notes to Condensed Consolidated Financial Statements. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS DONALDSON COMPANY, INC. AND SUBSIDIARIES (Thousands of Dollars) (Unaudited) Nine Months Ended April 30 -------------------- 1997 1996 -------- -------- OPERATING ACTIVITIES Net Earnings $ 36,766 $ 32,003 Adjustments to Reconcile Net Earnings to Net Cash Provided by Operating Activities: Depreciation and Amortization 15,344 15,424 Property, Plant and Equipment Write-downs 0 1,398 Changes in Operating Assets and Liabilities (8,982) (971) Other (1,037) (2,172) -------- -------- 42,091 45,682 INVESTING ACTIVITIES Net Expenditures on PP&E (31,753) (24,870) Business Acquisitions, Net of Cash Acquired (14,431) (278) Dividends & Distributions from Affiliates 3,749 616 -------- -------- (42,435) (24,532) FINANCING ACTIVITIES Purchase of Treasury Stock (8,904) (14,852) Net Change in Debt 7,643 (579) Dividends Paid (6,539) (5,674) Other 701 1,396 -------- -------- (7,099) (19,709) Effect of Exchange Rate Changes on Cash (1,579) 189 -------- -------- (Decrease) Increase in Cash and Cash Equivalents (9,022) 1,630 Cash and Cash Equivalents-Beginning of Year 30,924 28,565 -------- -------- Cash and Cash Equivalents-End of Period $ 21,902 $ 30,195 ======== ======== See Notes to Condensed Consolidated Financial Statements. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Note A - The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of only normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the nine month period ended April 30, 1997 are not necessarily indicative of the results that may be expected for the year ended July 31, 1997. For further information, refer to the consolidated financial statements and footnotes thereto included in Donaldson Company, Inc. and subsidiaries' annual report Form 10-K for the year ended July 31, 1996. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. A. Financial Condition The Company generated $42.1 million of cash and cash equivalents from operations during the first nine months of fiscal 1997. While nine month net earnings increased 14.9% from the prior year, operating cash flows decreased 7.9% due primarily to higher inventory requirements and a higher accounts receivable balance. In addition to the operating cash flow, $3.7 million was received in dividends and as a return-of-capital from an unconsolidated affiliate. These cash flows were used primarily to support $31.8 million in capital additions (a 27.7% increase from the prior year), to make business acquisitions with aggregate cash prices of $14.4 million, to repurchase 321,788 shares of common stock for $8.9 million, and to pay $6.5 million in regular quarterly dividends. At the end of the third quarter, the Company held $21.9 million in cash and cash equivalents. Cash balances net of short-term debt and current maturities of long-term debt totaled a negative $0.6 million, down from $17.8 million at July 31, 1996. Long-term debt of $8.5 million at April 30, 1997, represented 3.4% of total long-term capital, down from 4.2% at July 31, 1996. Year-to-date the Company exercised early retirement options on long term domestic debt totaling $3.6 million. During the third quarter of fiscal 1997, the Company completed the acquisition of two overseas operations in our Engine Products Group. In South Africa, the Company purchased the exhaust products manufacturing assets of the Kilber Division of N.E.I., which will allow the Company to expand its exhaust products into that market. In Mexico, the Company purchased all of the outstanding shares of Diemo, SA de CV, a supplier of liquid filter components, in what was primarily a vertical integration. In addition, the Company completed the acquisition of the assets of the Armada Tube Group, including Armada Products Co., located in Armada, MI., and Lakeside Tube Fabricators, Inc., located in Mooresville, N.C. The Armada Group, with annual sales of more than $15 million, specializes in manufacturing and delivering bent and fabricated tubular assemblies for exhaust and other engine related products. All of the above acquisitions were treated as purchases. The results of operations of these businesses were not material in relation to the Company's consolidated results of operations for the quarter ended April 30, 1997. B. Results of Operations The Company reported record net earnings for the third quarter, and the nine months ended April 30, 1997. Third quarter net earnings were $14.2 million, compared to $12.6 million in the third quarter of 1996, an increase of 12.5%. Net earnings per share of 56 cents, were up 14.3% from 49 cents in the prior year period. Year-to-date net earnings were $36.8 million, compared with $32.0 million in 1996. Quarterly net earnings improved primarily due to higher sales, higher gross margins and a reduction in the effective income tax rate. Increased sales level and gross margin improvements and a reduction in the effective income tax rate were the primary reasons for the increase in year-to-date net earnings. Strong business conditions continued in the third quarter across all business units. The core engine products business units - first-fit and replacement parts - - sales were up 10.9% over the same quarter last year. The Torit Products business unit showed solid growth in the third quarter after a slow start in the first half. The gas turbine business sales were up 82.9% from last year and backlogs are 95.1% higher than one year ago. Overall, the gas turbine business is expected to post full-year revenue approximately equal to last year. The gross margins for the quarter increased to 31.0% from 29.9% in the third quarter of fiscal 1996. Year-to-date figures are 30.2% and 29.1%, respectively. The improvement from the prior year is due to a combination of favorable material prices and product mix. Operating expenses were $42.6 million for the third quarter of 1997 as compared to $34.4 million for the third quarter of 1996, an increase of 23.8%, and have increased from 18.6% to 19.9% as a percent of sales. Year-to-date operating expenses were $119.9 million in fiscal 1997 as compared to $106.6 million in fiscal 1996, an increase of 12.5%, and have increased from 19.2% to 20.1% as a percent of sales. Operating expenses for the quarter and year-to-date were higher than previous year's quarter and year-to-date primarily because of increased selling expenses and $6.6 million of increases in the third quarter for warranty, legal and other accruals. The accruals include a reserve of approximately $5.0 million for air cleaner assemblies that may not meet customer expectations with regard to corrosion resistance. The reserve represents a reasonable best estimate of the Company's total potential costs. The ultimate amount cannot be fully determined as of April 30, 1997. Although costs could be significant in any one period, they are not expected to have a material effect on the Company's liquidity or consolidated financial position. Hard order backlogs -- goods scheduled for delivery in 90 days -- of $152.0 million at April 30, 1997, increased 20.6% from the same period last year and are up 5.7% in the quarter. Only the Torit Products market has softened against the prior year. Besides the gas turbine increases mentioned above, year over year backlogs are up 24.0% in high purity, up 10.7% in off-road and up 16.0% in transportation markets. C. Risk Factors Certain the of the matters discussed in this Form 10-Q are "forward-looking statements" as defined in the Private Securities Litigation Reform Act of 1995, which involve risks and uncertainties, including, but not limited to changing economic and political conditions in the U.S. and in other countries, changes in governmental spending and budgetary policies, governmental laws and regulations surrounding various matters such as environmental remediation, contract pricing, and international trading restrictions, customer product acceptance, and continued access to capital markets. All forecasts and projections in this Form 10-Q are "forward-looking statements," and are based on management's current expectations of the Company's near-term results, based on current information available pertaining to the Company, including the aforementioned risk factors and the factors set forth in Exhibit 13 to the Company's Report on Form 10-K for the year ended July 31, 1996. Actual results could differ materially both due to the risk factors mentioned here, and to other factors not so referenced. PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibit Index None (b) Reports on Form 8-K. No reports on Form 8-K were filed during the quarter ended April 30, 1997. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. DONALDSON COMPANY, INC. (Registrant) Date 6/ /97 By /s/James R. Giertz James R. Giertz Senior Vice President - Chief Financial Officer Date 6/ /97 By /s/Norman C. Linnell Norman C. Linnell General Counsel and Secretary